Pre-Approval vs Pre-Qualification
Imagine if you will that you have been shopping for a home. This may not be too much of a stretch for some readers. But, you finally found the right home, wrote an offer that was accepted by the seller, have entered escrow, performed a thousand dollars’ worth of inspections, and then you get the call no buyer wants to hear. Your lender calls you with the bad news that your loan has been denied. You are forced to cancel the contract and depending on where you are in the home buying process, you may even lose your earnest money deposit. Unfortunately, this is all too common in the real estate industry and it is completely avoidable.
When buying a car, there are some people that will shop for a car, make a deal, and then apply for financing. If they don’t qualify for a loan, it’s no big deal; it was just a few hours of lost time as they drive back home in their jalopy. When you try this same tactic with buying home, you not only tie up a sellers’ valuable asset, you risk losing thousands of dollars. Continue reading to find out how to avoid this mistake.
In the real estate world, we use two terms; loan pre-qualification (pre-qual) and loan pre-approval (pre-approval). The two terms are often used synonymously but there is a significant difference. A pre-qualification can be as simple as a loan officer asking a borrower a few questions about income and debts over the phone. In some cases, the loan officer may pull credit. But typically, a pre-qual means that the borrower’s income and assets have not been verified which means overtime has not been properly calculated, 2106 expenses have not been considered (if you are not sure what 2106 expenses are, that’s ok, but it proves my point), as well as a host of other critical factors that could alter debt-to-income ratios and lead to a denial.
Contrast the pre-qual letter to a pre-approval letter. A legitimate pre-approval letter will be issued only after an underwriter has reviewed the borrower’s tax returns, pay stubs, assets, and credit documents. A pre-approval letter may take one or two weeks to obtain and the borrower will submit a small mountain of paperwork. This level of approval almost guarantees that the borrower will experience a relatively smooth escrow. A pre-approval letter also shows a seller your seriousness and a much higher likelihood of closing escrow on time. Consider this; if you were a seller would you select a buyer that is pre-approved over a buyer that just has a pre-qual letter? I know I would and in many cases, a seller would probably select a lower offer with a good pre-approval than a higher offer with only a pre-qual letter. Therefore, a pre-approval letter can not only prevent you from losing thousands of dollars, a pre-approval letter can also save you thousands.
It is up to you to find a reputable loan officer that is willing to put in the work upfront to get you a pre-approval letter. I have been in the industry long enough to know that it really depends on the individual loan offer (not the company they work for) on whether or not your pre-approval is done correctly. Make sure you ask the right questions and have submitted all the proper paperwork. If your loan officer didn’t ask you for 2-years’ worth of tax returns and W2s along with 2 months of bank statements and pay stubs, that is a huge red flag. Demand that your loan is reviewed by the underwriter and you are issued a pre-approval letter. If your loan officer can’t comply, I can give you a list of very good loan officers that would be happy to get you pre-approved properly.